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Trading Volume in Dealer Markets

Published online by Cambridge University Press:  21 September 2010

Katya Malinova  and
Andreas Park
Katya Malinova
Affiliation:
Department of Economics University of Toronto, 150 St. George Street, Toronto, M5S 3G7, ON, Canada. [email protected]
Andreas Park
Affiliation:
Department of Economics University of Toronto, 150 St. George Street, Toronto, M5S 3G7, ON, Canada. [email protected]
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Abstract

We develop a financial market trading model in the tradition of Glosten and Milgrom (1985) that allows us to incorporate nontrivial volume. We observe that in this model price volatility is positively related to the trading volume and to the absolute value of the net order flow (i.e., the order imbalance). Moreover, higher volume leads to higher order imbalances. These findings are consistent with well-established empirical findings. Our model further predicts that higher trader participation and systematic improvements in the quality of traders’ information lead to higher volume, larger order imbalances, lower market depth, shorter duration, and higher price volatility.

Type
Research Articles
Information
Journal of Financial and Quantitative Analysis , Volume 45 , Issue 6 , December 2010 , pp. 1447 - 1484
Copyright
Copyright © Michael G. Foster School of Business, University of Washington 2010

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